RUSSIAN ENERGY: AMBASSADOR MEETS GAZPROM'S MILLER

C O N F I D E N T I A L SECTION 01 OF 03 MOSCOW 000583

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E.O. 12958: DECL: 02/09/2017
TAGS: EPET ENRG ECON PREL RS
SUBJECT: RUSSIAN ENERGY: AMBASSADOR MEETS GAZPROM'S MILLER

REF: MOSCOW 466

Classified By: Amb. William J. Burns. Reasons 1.4 (b/d).


1. (C) SUMMARY. In a February 8 meeting with the Ambassador,
Gazprom CEO Alexey Miller praised recent moves on domestic
gas price reform, and said gas price rises to FSU countries
would move forward in tandem, and assets are a part of the
payment mix. Miller stressed plans in play to develop Yamal
(work has already started on the giant Bovanenko field),and
said a tender would be held in May for foreign firms to bid
as contractors on Shtokman. He said the
Burgas-Alexandroupolis pipeline (BAP) deal would "without a
doubt" help CPC expansion. Recent talk of a gas OPEC (OGEC)
was "fanciful," given the predominance of piped gas on world
markets. The Ambassador urged Miller's attention to the
emerging PriceWaterhouseCoopers tax case (Reftel),which
Miller agreed to look into. Unexpectedly, at the very end of
the meeting, Miller produced and summarized a letter from
U.S. oil major Chevron indicating interest in working with
Gazprom in bidding on Yukos assets. END SUMMARY.
.
DOMESTIC GAS PRICE REFORM
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.

2. (C) Miller was pleased about recent GOR moves to raise
domestic gas prices over the next five years. For Gazprom
especially, the changes will mean the company can finally
pursue a "clear-cut strategy" for exploration, production,
and transport. Lacking long-term contracts for gas supplies
within Russia - a vestige of the GOR's ability to set prices
only one year out - the gas industry had been unable to
properly plan for future production and transportation needs.
The new regime will allow "mid-term contracts" that will
help Gazprom make production plans while passing risks off to
consumers since the gas would be "sold before it is produced."
.

3. (C) The current "super-low" domestic tariffs made it
impossible to profit from domestic sales, resulting in
profits being generated exclusively from export sales.
Scheduling prices to reach netback parity by 2011 will make
the export and domestic markets (which represent two-thirds
of Gazprom's production) equally profitable. This would
"triple" Gazprom's profits and would be good for independent
producers as well, and will make the Russian economy more
efficient and competitive. Independent producers will get
equal treatment and industrial consumers of gas in Russia
will ultimately be treated in "similar and equal" ways to
European customers.
.

4. (C) Russia last year began experimenting with spot sales
of gas on the domestic market, with Gazprom and independent
producers permitted to sell 5 billion cubic meters (bcm) each
on a free trading exchange. There has been no decision to
limit the volumes on that free exchange, and one day it could
represent 10-15 percent of Russia's domestic gas trade
(roughly 35-50 bcm annually). So far spot prices have been
higher than contract prices, but that could change as
contract prices are scheduled to rise. The state has decided
that while mid-term and long-term contracts and spot sales
will ultimately dominate the domestic industrial consumer
market (just as they do the export market) while, the
household sector will be reserved for special treatment, with
price rises much slower.
.
PRICE RISES IN THE FSU STATES
--------------
.

5. (C) Miller argued that Russia clearly cannot disadvantage
its own economy by subsidizing the production of goods in
neighboring countries. Russia expected, and sees,
modernization and conservation of energy emerging in states
such as Ukraine that are living with rapid gas price
increases, and has concluded "there is no reason such
efficiency would not work in Russia". This will make the
entire FSU more competitive. All FSU prices will reach
market level one day, including Russia, where lower domestic
tariffs were actually making the country less competitive
relative to its neighbors. Even now, all FSU countries are
being treated "fundamentally" the same, and where assets are
being offered in lieu of cash, the listed prices are lower.
It is all the same to Gazprom whether payment comes in cash
or assets.

MOSCOW 00000583 002 OF 003


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DEVELOPMENT PLANS INCLUDE YAMAL...
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.

6. (C) Looking ahead, Miller observed that western
speculation about a future gas production shortfall was
grossly exaggerated. In fact, Gazprom has a plan for the
nation's gas balance to 2030, and at least until 2013 those
plans are firmly and absolutely covered by "concrete" field
development schemes. After reviewing overall gas demand for
the last few years, Gazprom is basing its future plans on a
"maximum demand" scenario, not a conservative scenario. This
year and next Gazprom will is working to improve its
forecasting ability, but until that process is complete
Gazprom will continue basing its plans on this maximum demand
scenario. Fields on the Yamal Peninsula are Gazprom's first
priority, especially the giant Bovanenko field, where work
has already begun.
.
...AND SHTOKMAN...
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.

7. (C) Regarding Shtokman, Miller emphasized several times
that Gazprom has the rights only to the license for using the
subsoil resources. As soon as the gas/oil is out of the
ground, nothing precludes various business deals with foreign
firms at any point in the chain of production, refining or
liquefaction, or transport. This means western firms cannot
book reserves, but there's plenty of other business to be
done together. Gazprom is open to such deals, and that is
what is behind the recent re-opening of talks with foreign
firms. Gazprom plans to hold its first tenders in May for
foreign firms to bid as contractors, and letters to this
effect had been sent to Chevron, ConocoPhillips, Total, and
Norsk Hydro. (Note: He did not mention Statoil but
presumably meant to.) All the companies had "confirmed"
(NFI) except Chevron who was expected to "confirm" soon.
(Note. Chevron told us later that neither Chevron nor Norsk
Hydro had received letters as of February 8.)
.

8. (C) Miller defended last year's shelving of the offer to
partner with western firms to develop Shtokman. Western had
not put sufficient assets abroad on the table, given the huge
resources Shtokman has to offer -- and current price trends.
"Swapping assets" was Gazprom's original intention, but no
worthy assets were on offer and those offered were "far, far
too low" in value, and only a few producing assets had been
proffered. Gazprom had been willing to consider a "balance"
of producing and non-producing assets, but no package met
Russian requirements. Western firms seemed overwhelmed at
the scale of what they would have to surrender in return for
a piece of Shtokman. More volumes had come to light in 2006
at Shtokman, which made it all the more difficult for western
companies to meet Gazprom's requirements.
.
...AND SAKHALIN
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.

9. (C) Miller admitted that Gazprom's view of Sakhalin
differed now that it is a shareholder in Sakhalin 2. Piped
gas doesn't have much future in the eastern half of Russia
due to a low population, but LNG is obviously going to be a
big story. Piped gas for export is a possibility, but then
the key concern must be the interests of the producer,
whereas with LNG clearly the interests of the consumer are
paramount.
.
CPC and BAP
--------------
.

10. (C) Miller offered little new on the recent news that
Russia, Bulgaria, and Greece had signed an agreement on the
Burgas-Alexandropolos Pipeline (BAP) in which GazpromNeft,
Rosneft, and Transneft would collectively hold 51% of the
shares. Progress on such a route would "without a doubt"
help achieve resolution of the expansion of the Caspian
Pipeline Consortium (CPC). Both are clearly important
contributions to world markets.
.
MIDDLE EAST TRAVELS AND "OGEC"
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.

11. (C) Miller said he will accompany President Putin on his

MOSCOW 00000583 003 OF 003


upcoming trip to the Middle East including Saudi Arabia,
Jordan, and Qatar. Miller intends to tie this in with a stop
in Turkmenistan to attend the presidential inauguration. As
for recent talk of a "gas OPEC" ("OGEC"),Miller dismissed it
as fanciful. Gas is fundamentally different than oil, and
piped gas cannot conceivably support an OGEC's purported
purposes. All the talk is just meaningless speculation, and
the motives behind the media stories about OGEC were suspect.
"Why is this story raised? Who is it for?"
.
PRICEWATERHOUSECOOPERS
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.

12. (C) The Ambassador raised the recent tax cases against
PWC, and urged Miller's attention to the matter. Miller
professed ignorance but had nothing but the highest praise
for PWC's work for Gazprom over many years, and promised to
look into the situation.
.
YUKOS
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13. (C) In an unexpected closing, Miller produced a letter
from U.S. oil major Chevron and read from it, summarizing
that the firm was offering to work with Gazprom in the
upcoming auctions for some of Yukos' assets. This letter
was proof of at least two things - first that U.S. firms
could do business with Gazprom without booking reserves after
the recent Shtokman decisions, and second that U.S. firms
were willing to buy into Yukos assets. The Ambassador did
not comment in response. (Note: Gazprom did not inform the
Embassy of its intentions to release a press statement about
the meeting, or to publicly refer to this letter.)
.
COMMENT
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.

14. (C) Miller was confident, which is understandable since
Gazprom is on a roll. Miller's logic for raising domestic
gas prices was sound, and his explanation of raising prices
to FSU customers only slightly defensive. Miller's test of
our view of the radioactivity of Yukos assets -- both by
raising it with the Ambassador and by issuing the press
release -- previews Gazprom's intentions to bid on the assets
and the general desire (dating back at least to December
2004) to legitimize the Yukos affair.
BURNS